By Eleanor Laise
With all the talk of "systemic risk" and "too big to fail," small investors might assume that the landmark Dodd-Frank financial overhaul bill has little bearing on their portfolios.
They would be wrong.
Buried in the bill's 800-odd pages are the most sweeping regulatory changes for ordinary investors in decades, affecting everything from mutual funds and retirement plans to single-stock investments and other holdings.
The legislation has the potential to make brokers more accountable to their clients, shine light on hedge funds and improve the transparency of the complex derivatives on which many mutual funds and pension plans rely to hedge their risks.
What's more, the bill's full effects on small investors likely won't be known for some time. Many provisions call for regulators merely to study certain issues or give them the power, but not the obligation, to make certain rule changes.
But in the meantime, investors can prepare for some significant changes in their mutual funds, hedge funds, retirement plans, brokerage accounts and single-stock holdings. Here are the important factors to watch:
Though mutual funds are barely mentioned in the Dodd-Frank bill, the legislation could affect everything from funds' bond and derivatives holdings to how these products are advertised to investors.
For bond funds, the bill creates some uncertainty and could even boost volatility in certain types of holdings, managers and analysts say. That is because it gives the Federal Deposit Insurance Corp., which can seize troubled financial institutions, leeway to pay investors holding identical bonds issued by that institution differing amounts. If investors aren't sure how they will be treated in such a scenario, they may demand higher yields, which means lower bond prices, or dump the bonds at the first sign of trouble, money managers say.
The provision "can have all sorts of unintended effects," says Bob Auwaerter, head of fixed income at mutual-fund firm Vanguard Group. If mutual funds are trying to sell bonds as the issuer tumbles toward default, the potential for unequal treatment of bondholders "will reduce liquidity and lower the price," Mr. Auwaerter says.
One little-noticed provision in the bill could be critical for mutual-fund investors prone to poor market-timing decisions. It calls for the Comptroller General to study mutual-fund advertising, including the use of past performance data, and recommend ways to improve investor safeguards. Academic research suggests that "short-term performance ads really do drive investor dollars, and unfortunately not in a good way," says Ryan Leggio, fund analyst at investment-research firm Morningstar Inc. "Those usually lead investors to the hot fund of the month or the year."
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